As the markets tumbled, with the S&P 500 index showing its largest one-day fall since August 2011 and the subsequent drop across world markets that followed, many investors were shocked at the extent of the losses. At the same time, the VIC, the volatility index, recorded its largest one-day rise in history, showing just how deep the sell off was. There have been warning signs, in the bond market in particular, with yields rising from 2% in September 2017 to 2.8% today, reflecting the stresses within the markets as interest rates begin to rise.
Accelerating interest rates
This current sell-off seems to have been triggered by the Friday Non-Farm Payroll data, which came in firmly ahead of expectations. This strong showing indicates strength in the economy, which raised fears of faster interest rate rises than had been previously anticipated from the Federal Reserve, and with three rises in 2017, the possibility of more throughout 2018 concerned investors, particularly heavily leveraged ones.
Federal Reserve Chairman, Jerome Powell, faces a testing time in balancing this situation in the coming months, and the fear that caused this latest sell-off is only a small part of a broader issue he must contend with. Since the financial crisis in 2008, cheap credit has powered the markets, but we are now entering a new phase, with liquidity being pulled back from the financial system as uncertainty takes hold.
The big question
With signs of potential volatility being present for a while, the biggest question asked by this sell-off is a simple one, is it a one-time adjustment, similar to the one encountered in 2013 based upon the panic resulting from a reduction in quantitative easing, or is it something more significant, and the start of a bear market?
Our view on the road ahead
Looking at the broader picture, the sell-off and associated volatility is not something that would cause us to change our medium-term perspectives or asset allocations. Over the coming weeks, there will likely be more volatility, bringing instability and unpredictability as investors change their priorities depending on their thinking about future interest rates and inflation direction, and will likely create more attention-grabbing headlines and panic for the uninformed. However, with our long-term viewpoint we can approach these incidents for what they are, minor corrections during the upward trend, and simply sit tight with our positions.